Tips and definitions: Vacation home purchase scenario

The reported rental income is equal to the maximum of 0 and:

• Your cash rent, minus
• your rental expenses, minus
• the fraction of yearly expenses (including depreciation) due to the rental of the house

A note on reporting losses

Home2Buy assumes that you will be using this 2nd house as both a rental and as a vacation house. Under these circumstances, you are not able to apply a loss in the rental market to offset income from other activities (such as from your everyday job).

However, there is a special case where you can apply up to $25,000 worth of loss. In such a case, the loss will reduce your income taxes!

You can do this by treating your rental property as a business. This means several things:

1. Personal use of the property can not exceed the maximum of 14 days, or 10% of the days you rent it at full market value
2. Your adjusted gross income (AGI) is less then $150,000 (of $80,000 if filing singly).

If these conditions hold, then you can apply a rental loss to offset other income.

Notes:

Personal use means any time you, or your family (and family includes parents, children, siblings, etc.) use the house; or anytime you rent it (say, to a friend or neighbor) at less than fair market value. You get the full $25,000 if you (filing jointly) make less then $100,000 AGI. Between $100,000 and $150,000 of AGI, you can apply a prorated fraction of the up-to-$25,000 loss. The main advantage to treating the 2nd home as a business is to fully capture all yearly expenses, especially depreciation. You can also include mortgage interest and property taxes in computing your losses; however, you can also include mortgage interest and property taxes as deductions (when you do not treat the 2nd home as a business). Hence, the ability to expense a full year's depreciation is typically the best reason for treating the 2nd home as a business!

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